When a lender offers you a loan, such as a personal loan or a car loan, it will generally be one of two types: secured or unsecured.
When you take a secured loan, you offer something of value to the lender as collateral. If you are unable to repay the loan, the lender can sell the collateral and recover the amount they are owed.
When you take an unsecured loan, you do not give any collateral to the lender. Credit cards and most personal loans are examples of unsecured loans. The lender assesses your creditworthiness, financial situation and ability to repay and offers a loan to you without security. If you default on repaying an unsecured loan, the bank cannot take any of your assets to recover their money. Because the risk to the lender is higher in the case of unsecured loans, the interest rates charged are similarly higher than they are for secured loans. When you need to borrow, it’s often easier to get approval from lenders for secured loans compared to unsecured ones.
First time home buyers sometimes ask ‘Is a mortgage secured or unsecured debt?’ It turns out, the word ‘mortgage’ itself is a synonym for a secured loan. Your home is often the asset that is pledged to the bank in exchange for the funds.
When you get your loan, you’ll be asked to sign a legal agreement with your lender that mentions your house as security for the loan. State and territory governments register the security for a home loan and you pay a mortgage registration fee for this. This registration process is important as it enables anyone planning to buy any property to check whether a lender has a claim over it.
When you select a property and get the home loan approval, you complete the settlement process and are then legally the owner and can occupy the house. However, the lender will hold onto the Certificate of Title until you repay the loan fully.
Your bank may require you to take homeowners insurance in order to protect their interest by ensuring that the value of the asset they have as security is maintained.
What happens if I cannot make mortgage repayments?
Sometimes you may be unable to make mortgage repayments for various reasons, including health, employment or family problems. While the lender may not start legal proceedings over a single late payment, if the problem persists, then they may send you a default notice. You should try to make a payment within 30 days of receiving such a notice or speak to your lender as soon as possible. If you cannot make a payment after being warned, your lender may initiate a legal process called foreclosure to take possession of your house, sell it, and recover the amount they have loaned you. If the lender obtains a court order to repossess your home, then you will need to vacate and the lender can sell the house.
In order to prevent this from happening, you should reach out to the bank's hardship department if you are struggling to repay your home loan. Explain the reasons for your financial difficulties and let them know when you think you’ll be able to start making repayments again.
As you can see, the risk to your mortgage lender is relatively low when you take a home loan because they can recover the loaned funds one way or another. One the other hand, you take some risk by offering your house as security. That’s why it’s important to stay on top of loan payments or reach out if you run into trouble.